| Perry Mehrling, Princeton University Press, 2010,
174 pages, £20.95 |
| Titles of books are funny things. In theory, they
succinctly convey the content. Yet in the case of Perry Mehrling’s
latest book, The New Lombard Street: How the Fed Became the Dealer of
Last Resort, the title doesn’t quite do the content justice. To be sure,
Mehrling comprehensively reviews how the Fed responded to the financial
crisis by expanding its remit beyond lender of last resort to a
liquidity supplier for a myriad of financial institutions, across
capital markets as well as national borders. In doing so, Mehrling does
not only describe how the Fed’s operations and tools changed. Even more,
he deftly traces the conceptual origins of the Fed’s crisis response
through its own history, as well as back to the guiding principles of
nineteenth-century central banking as articulated by Walter Bagehot and
practised by the Bank of England. |
| That analysis alone would deserve praise,
particularly in such a slender volume. But even more impressive – and
not adequately foreshadowed in the book’s title – are Mehrling’s
insights into the origins of the financial crisis. In ways few observers
have dared, Mehrling identifies the origins of the crisis in the flawed
assumptions of post-war macroeconomic, monetary and finance theory. With
an economy of language and free of jargon, Mehrling moves easily between
the disciplines of economics and finance, zeroing in on the critical
assumptions that market participants and central bankers ignored,
ultimately at extraordinary cost to themselves and society at large. |
| Crucially, Mehrling avoids the temptation to view
the crisis as simply the outcome of bad judgment by reckless borrowers
and lenders. Mehrling is more interested in how crises of such
proportions can occur in a world of supposedly efficient markets and
rational agents. He is also curious about how such ultimately
destructive behaviour could escape detection of the best minds in
economics, finance and policy-making, at least until it was too late.
Partly, in his view, that is because post-war macroeconomics became
obsessed with endless debates between neo-classical and Keynesian
economics, in the process ignoring the insights of Hawtrey and Minsky
that proved to be so prescient about the destabilizing nature of
speculative investment. |
| The book’s flaw – admittedly a minor one – is
Mehrling’s use of ‘t-accounts’ to illustrate the concepts of fractional
reserve banking, inter-locking credit markets, and the impacts on the
Fed’s balance sheet of its various interventions as it sought to manage
the crisis. They are a tool fit for textbook economics, not for a
monograph otherwise written in clear and concise prose. Still, the
quibble is minor one. This is an excellent and accessible analysis for
anyone wishing to understand the origins of the financial crisis and how
the Fed came to respond as it did. |
Larry Hatheway
Chief Economist & Chief Strategist, UBS Investment Bank |
|